In a week, the Bank of Canada is due to make its first interest rate announcement of the year. A further rise in interest rates would be too much. From everywhere, the signals are multiplying to show that last year’s increases are beginning to have a major effect on the economy.
The Bank of Canada had a very bad year in 2022. Its main defense is that it did no worse than other comparable central banks, in the United States or in Europe.
At the end of 2021, beginning of 2022, the Bank of Canada misjudged the first signals of inflation. When inflation started to rise, it was considered anecdotal and temporary. For a few months, the Bank did nothing.
Then when in the spring they saw that inflation was firmly established, the leaders of the Bank of Canada had to act in catch-up mode, even in panic mode. It was then that we saw a series of drastic interest rate hikes, especially in the second half of the year.
This way of acting is very unhealthy. In economics, an institution whose decisions affect both consumers and businesses alike should move in a predictable and gradual manner. It should do everything to enable economic players to see the changes coming and to adapt to them.
trapped
The exact opposite happened in 2022. In just a few months, consumers and businesses were trapped by the sharp increase in the cost of borrowing. From month to month, rate hikes of half and even three-quarters of a point have radically transformed the cost of credit.
A young couple who took out an adjustable-rate mortgage in February to buy a property find themselves with hundreds of dollars more in monthly payments. A company that borrowed at the beginning of the year to modernize its equipment realizes that all its calculations at the time no longer hold. She may have weakened.
The Bank of Canada had no choice but to do something about inflation. But by delaying her first reaction, she forced herself to move very, even too abruptly.
Measure the effects
For the past few weeks, we have seen inflation slow down. Not as much as expected, but still. We are also witnessing a drastic drop in the number of real estate transactions. CEOs of large corporations, like finance ministers, are preparing for the likely scenario of a recession.
The Bank of Canada needs to take a step back. Its rate hikes do not have an instantaneous effect. The increases from the end of 2022 continue to act as a drag now. The Bank must therefore pause its sequence of rate increases.
It must prevent households and businesses from depositing their keys. The Bank of Canada must stay the course on reducing inflation, but it must take into account the brutal nature of its recent approach.